Goldman Sachs Under Intense Scrutiny for Role in Sovereign Wealth Fund Fraud

Nicole Shamoon

Associate Editor

Loyola University Chicago School of Law, JD 2020

On Christmas Day 2013, The Wolf of Wall Street debuted to rave reviews and quickly became director Martin Scorsese’s top-grossing film. Audiences loved Leonardo DiCaprio’s portrayal of Jordan Belfort, an aggressive stockbroker who rapidly rises to wealth through smooth talking and high-pressure sales tactics. The film is filled with outrageous partying, unethical Wall Street stockbrokers and bankers, and culminates in the arrest of Belfort and the downfall of his criminal enterprise. While certain scenes from the film were arguably embellished, the film is based on a true story. The more amazing true story, however, is that The Wolf of Wall Street was funded and produced through a massive fraud that makes Jordan Belfort’s escapades look miniscule. On November 1, 2018, Timothy Leissner, a Goldman Sachs partner, plead guilty to conspiring to launder money and violating foreign antibribery laws for his role in a massive scandal that involves the prime minister of Malaysia, Middle Eastern sovereign wealth funds, and even Paris Hilton.

Unprecedented Corruption

Shortly after graduating from Penn, Jho Low saw an opportunity to steal massive amounts of money by setting up a sovereign wealth fund. The fund was ostensibly set up by Low with the help of powerful contacts in the Middle East and the prime minister of Malaysia in 2009 as an oil-wealth fund for Malaysia. This was when Leissner met Low and Goldman Sachs became an adviser to the fund. It evolved into a strategic development fund called 1 Malaysia Development Berhad (“1MDB”) when Prime Minister Najib gave it the broader goal of transforming Malaysia’s economy, but the reality is it was never much more than a slush fund for Low and Najib, with many others receiving bribes along the way for helping perpetuate the fraud. While corruption and graft are nothing new in the developing world, a number of things make the 1MDB scandal stand out. First is the scale of the fraud. Over the course of five years, approximately $4.5 billion was allegedly funneled out of the fund through a web of shell companies and offshore bank accounts. This has led to lawmakers in Switzerland pushing the government to change its laws on ill-gotten bank profits seized by authorities. A second unique part of the 1MDB scandal is the brazenness of its ringleaders. Prime Minister Najib allegedly received $681 million to his personal accounts, allowing his wife to spend lavishly on handbags and jewelry. Goods worth $273 million were seized from his properties in the aftermath of the scandal. Low spent lavishly on art, a superyacht, parties, and for celebrities like Paris Hilton to hang out with him. While the unraveling of the scandal ended Najib’s party’s six decade reign over Malaysia and led to the failure of one of Switzerland’s oldest banks, its impact on one of Wall Street’s most storied firms is still unfolding.

Hit to Goldman’s Reputation

Timothy Leissner and Roger Ng of Goldman Sachs have both been charged in the scandal, with Leissner pleading guilty and claiming that hiding facts from the firm’s compliance and legal departments are “very much in line with its culture.” The failure of Goldman Sachs’ internal controls in the 1MDB scandal will have major consequences for the firm – both reputationally and financially. Leissner is the first Goldman partner since 1989 to be charged with a crime, and Goldman shares fell from $233 to $202 in the aftermath (wiping out almost $11 billion of market value) as investors assess the possible fallout from 1MDB. It also is sure to cause many banks and professional services firms to review how they are doing business in developing economies.

Red flags Ignored Along the Way

According to an affidavit made public last week, the role of Low at 1MDB was a constant source of concern for Goldman’s compliance and legal departments as the firm helped the fund raise money through debt offerings. In 2009, Low was unable to open an account with Goldman’s private bank in Switzerland after compliance raised concerns about his source of wealth. Then-CEO Lloyd Blankfein met with Low just two months after he was turned down for an account. Blankfein again met Low and Najib in September 2013, several months after Goldman had completed its last of three debt raises for 1MDB. In 2014, he praised Leissner’s efforts in Malaysia.

Ponzi Scheme

Swiss investigators labeled 1MDB as a Ponzi scheme that was kept afloat by Goldman’s ability to help the fund issue more debt when it ran into problems. The bank collected over $600 million of fees on the three deals it did with 1MDB, justifying the exorbitant fee as fair given the risk it was assuming. However, it is hard to understand how the bank’s accounting, compliance, and legal departments did not see a problem with the bank collecting $192.5 million on its first deal with 1MDB, on a deal size and profile that would typically bring in only $1 million. A second deal shortly brought in $114 million of fees for the bank, and like the first deal it was approved by five Goldman committees tasked with vetting financially or legally risky transactions. Officials supposedly were reassured by 1MDB’s status as a sovereign wealth fund that had the full support of the country’s prime minister. The bank’s Asia president, David Ryan, questioned how the high fee was justified given the ease of the first deal, but his objections were overruled by Goldman officials including Chief Operating Officer Gary Cohn. Ryan left the firm the following year despite what many saw as a bright future at the firm.

Will Anything Change?

While the 1MDB scandal is still playing out, the saga is already a massive black eye for Goldman. With Ng and Leissner being charged, the stock shedding billions of dollars of value, and a multi-billion-dollar fine looming, the importance of heeding the concerns of legal and compliance departments is clear. While the hundreds of millions Goldman made with 1MDB seemed fabulous at the time, the short-sightedness and greed of some at the top have left the firm in a much worse position. Whether anything will change or not, however, is less clear.